Interest Rate Derivatives House
The local route: A record 2009 for many rates desks was a hard act to follow. In 2010 competition cannibalised margins while core markets’ rates sat at all-time lows, but one house exploited the rising internationalisation of emerging markets. For capitalising on its dominant local presence, leading developments in Asia and building its flow business by cementing its position in primary debt markets, HSBC is IFR’s Interest Rate Derivatives House of the Year.
For those banks left standing in the rates business following the financial crisis, 2009 was a record year for revenues, driven by wide margins and a resurgent corporate bond market, which few thought would be bettered. That prediction proved correct as 2010 saw the return of some previously absent players driving margins lower, while sovereign-driven volatility led to prolonged periods of primary market closure, reducing corporate bond issuance.
With rates at record lows across core markets, 2010 was a tough year for many houses that invested heavily in the rates business the previous year. In an attempt to fill the revenue gap, banks were forced to look at new market opportunities such as leveraged structures and investible algorithmic strategy indices in an attempt to stem declining profit expectations.
But for HSBC the answer lay closer to home. Its broad emerging markets franchise gives it a dominant position across the increasingly important Asian markets. The bank drew on its counterparty strength in the wake of the crisis as more thinly capitalised rivals began to waver or were forced to temporarily exit the rates business altogether. Since then it has continued to build, achieving success and dominance in niche markets where rivals struggle to find liquidity.
“We see our global rates business as a natural extension of our large multi-balance sheet banking organisation. We have a very strong emerging markets franchise and a broad footprint globally, which made a big difference in 2010,” said Kamal Omari, co-global head of rates structuring at HSBC.
“In terms of our rating, our financial stability and our strong liquidity position, it has given us a unique competitive advantage and helped us to win business that we’d hardly have competed for two or three years ago,” he added.
As well as an unrivalled position in Hong Kong dollar markets, HSBC is also one of the largest deposit-takers in the Middle East and has a leading position in Mexican pesos and Brazilian Real. The bank has also extended its coverage of sovereign wealth funds and family offices, providing a healthy boost for its asset and liability management business.
“Our mantra through the crisis was ‘real products for real clients’ and it still is today,” said Swami Ravichandran, director of global structured rates products at the bank. “Our focus is on retaining market share and we’ve not seen clients move away since competition increased. When we can’t be competitive on price, we’re upfront about it, but for our clients it’s not always about every basis point on every trade.”
Local capabilities
The HSBC model is built on its unique, local balance sheet capabilities in countries where many of its competitors are only able to scratch the surface. Its expertise in emerging markets, particularly Asia, is based on a three-layer structure that includes a global markets hub from which the bank also operates regional businesses and local balance sheets within individual jurisdictions.
“With our unique constellation of local banks, each taking local deposits, we have the advantage of seeing business in local currencies, managing deposits and providing lending to local corporates with risk management solutions,” said Omari. “We are an established player in local markets and we have our own ALM needs in most geographies.”
The local balance sheet structure has provided HSBC with risk appetite in a number of less liquid markets that is sometimes unique among its peers. “We have the risk capabilities to make our balance sheet available to our clients wherever they have specific needs in currencies that our competitors aren’t covering,” said Omari. “We have a natural view and presence and natural risk appetite where others don’t.”
“For non-liquid currencies, our ability to offer longer-dated structures where others can’t is linked to our structural set-up. Our unique advantage is that to provide long-dated products, you need to take exposure to long-dated government bond markets and that’s not a natural exposure for a swap trader.”
That natural risk appetite allowed the bank to meet some very specific financing needs for its core pan-Asian client base throughout the year. Its deep local market knowledge across the entire region allowed the bank to complete trades that proved difficult for other players without the local footprint.
The bank structured a Singapore dollar swap for a Chinese securitisation that many of its competitors might have struggled to pull off without an extensive local retail network. “We were able to structure a transaction that would have looked plain vanilla if it was done in euros or dollars, but no other bank could have achieved that transaction in Singapore dollars,” said Omari. “Our unique position is that we can recycle that risk through structured products and sell them on to our extensive retail network in Singapore.”
The bank also completed the first publicly rated asset-backed financing programme secured by consumer loan receivables in Singapore that included a variety of derivatives hedges through swaps and options as well as a vanilla interest rate cap.
“Equipped with a highly efficient and knowledgeable treasury sales and trading team, HSBC has demonstrated their dedication and professionalism to work closely with clients in the volatile markets and uncertain economic environment,” said one Hong Kong-based corporate treasury official. “We appreciate HSBC’s excellent services and we are looking forward to continuing our long and trustworthy relationship with them.”
Asia pioneer, global growth
The key battleground for all global players is undoubtedly China. Here, the bank got off to an early start in December 2009 by completing the first ever onshore renminbi interest rate swap deal based on the PBOC lending rate. The transaction, which had a nominal amount of about Rmb100m, was completed with an interbank counterparty.
“The reason for promoting this type of IRS was that we believed the market would eventually have the hedging demand from the corporate clients as it is a regulated interest rate index for commercial loans,” said Omari.
While Asian activity was the key driver behind HSBC’s achievements in 2010, it also gained traction in core markets. Given its strong counterparty credit status through the worst of the crisis, the bank dramatically improved its market share in the core rates market to around 8%–10%, according to a range of industry surveys. Crucially, it has managed to maintain its position.
“Through the crisis we almost doubled our market share and most importantly, we’ve managed to retain that as competition and margins came back to pre-crisis levels,” said Omari. “We continue to be a counterparty of choice for long-dated products, especially for pension funds, banks and insurers.”
Part of that improvement in market share comes from HSBC’s growing debt capital markets franchise.
Low rates dominate
With rates hitting record lows and primary bond issuance falling short of expectations, numerous houses have jumped back into structured products, keen to serve clients looking for yield enhancement opportunities. Although leverage offered one of the few ways to achieve yield enhancement goals, Omari points out that HSBC’s approach to structuring is based on strong fundamental views.
“HSBC has never been in the business of industrialising solutions and providing highly leveraged complex products to its clients,” he said. “The business is about delivering risk management or yield enhancement solutions, or helping put together innovative solutions to a complex problem. We’re not in the business of putting a currency in a basket because it has the right correlation to achieve a set pay-out. We’re in the business of putting a currency in a basket because we have a fundamental view of the economy and the performance of that currency.”
In South Korea, the bank developed a series of yield enhancement products including its Power Swap Spread that provided clients with a yield enhancement structure on the back of the distortion between the local interest rate swap and KTB curves. The solutions were welcomed by numerous local securities houses across the country.
“HSBC is not a pay-off manufacturing factory. We’ve developed a number of indices to achieve specific objectives such as where there is a specific macro or micro component or risk factor that we want to capture,” said Omari.
For corporate clients in its key Hong Kong market, the bank assisted in finding investments for surplus cash holdings by offering an investment product that provides yield enhancement without having to take directional market views.
The Dynamic Term Premium Strategy Linked Investment, or DTP strategy, is a proprietary based trading strategy that seeks to profit from the tendency of interest rate forwards to over-predict future rates. The strategy also incorporates a transparent and non-discretionary set of rules that allow investors to benefit from instances when term premium is negative.
Helen Bartholomew
